Gross Basis

What Is Gross Basis?

The gross basis is the spread between the spot price of a cash bond and the futures price multiplied by the bond's conversion factor. Formally: Gross Basis = Cash Price − (Futures Price × Conversion Factor). It captures the total carry differential between owning the physical bond and holding an equivalent futures position, before netting out financing costs. The conversion factor normalizes bonds to a hypothetical 6% coupon standard, making different bonds in the deliverable basket comparable. The bond with the lowest gross basis — net of carry — becomes the cheapest-to-deliver (CTD), which is the bond the short futures holder will typically deliver at expiration.

Why It Matters for Traders

Gross basis is the raw material of Treasury basis trades, one of the largest and most institutionally significant arbitrage strategies in fixed income markets. Hedge funds and primary dealers systematically monitor basis levels to identify when cash bonds trade cheap or rich relative to futures, and construct long cash/short futures (positive basis) or short cash/long futures (negative basis) positions accordingly. Beyond arbitrage, gross basis signals repo market stress: when financing costs spike or collateral becomes scarce, the basis widens in ways that can cascade into broader fixed income volatility. During periods of elevated term premium or dealer balance sheet constraints, gross basis can deviate substantially from theoretical fair value for extended periods.

How to Read and Interpret It

A positive gross basis (cash > futures × CF) is the normal state because bond holders receive coupon income and accrued interest that futures holders do not — carry is positive for longs. The gross basis typically runs between 0.5 and 3 points (where 1 point = 1% of par) in stable markets for 10-year Treasuries. When the gross basis compresses sharply or goes negative, it signals that futures are trading rich to cash — often driven by short-squeeze dynamics in the futures contract, forced repo selling, or dealers withdrawing from intermediation. A rising gross basis alongside rising repo specialness on the CTD bond suggests genuine collateral scarcity. Traders compare gross basis to net basis (gross basis minus carry) to isolate the optionality embedded in the delivery option.

Historical Context

The most dramatic gross basis disruption in recent history occurred in March 2020, when the COVID-19 shock triggered a wave of Treasury selling by foreign central banks and leveraged basis traders simultaneously. The gross basis on 10-year CTD bonds widened by more than 2.5 points in under two weeks — a move orders of magnitude beyond normal. Basis traders who were long cash/short futures faced catastrophic margin calls as repo markets froze and futures prices collapsed faster than cash prices could adjust. The Federal Reserve ultimately intervened with unlimited Treasury purchases and expanded repo operations to restore the relationship. This episode highlighted how basis trades, despite being theoretically low-risk, embed significant liquidity-adjusted duration and funding risk.

Limitations and Caveats

The gross basis model assumes stable financing costs and a known CTD bond, but both can shift rapidly. CTD switches — where a change in yields makes a different bond the cheapest to deliver — can render existing basis positions immediately uneconomic. The delivery option embedded in futures contracts (the short chooses timing and which bond to deliver) creates a wild card premium that is difficult to price precisely. Additionally, gross basis calculations depend on accurate repo rate assumptions; during repo market stress, these inputs become unstable. Regulatory constraints such as the supplementary leverage ratio (SLR) limit dealer capacity to intermediate the basis, which can cause dislocations to persist longer than models predict.

What to Watch

• CTD identity stability: monitor which bond is cheapest to deliver and whether small yield moves threaten a switch
• Repo specialness on current CTD bonds as an early stress indicator
• Open interest in Treasury futures contracts around quarterly roll periods when basis compression or expansion tends to be amplified
• Primary dealer balance sheet capacity and any SLR relief announcements that could affect basis trade intermediation